OSFI - Stress Testing Flashcards
What is the purpose of stress-testing? (4)
Risk: risk identifications & control (stress testing helps identify and control risk)
Complement: stress testing complements other risk management tools such as Best’s Capital Adequacy Ratio + simulate shocks
Cap: stress testing supports capital management
Liquidity: stress testing improves liquidity management
Definition of stress testing.
A risk management technique TO EVALUATE the effects on financial condition of specified changes CORRESPONDING TO exceptional but plausible events.
Describe - risk ID, control (regarding purpose of stress testing)
Risk ID: identify concentrations & interactions of risk
CONTROL: adjust individual portfolios, overall business strategy
Describe - complement other tools (regarding purpose of stress testing)
- test statistical models USED to determine VaR
- simulate SHOCKS to test models robustness to economic changes
Describe - supporting Capital Management (regarding purpose of stress testing)
Identify SEVERE events and/or COMPOUNDING events that impact capital requirements.
Describe - improving Liquidity Management (regarding purpose of stress testing)
ASSESS liquidity profile & adequacy of buffers FOR institutional & market-wide stresses.
Describe board versus management responsibilities regarding a stress testing program. (3 each)
BoD: - Ultimate responsibility for program - ensures management implementation of program - should be aware of key findings Management: - implementation of program - management of program - planning for PAS (Plausible Adverse Scenario)
List the 4 Rudimentary stress-testing considerations.
- Range of perspectives and techniques
- Update stress testing framework regularly
- Documentation
- Infrastructure
Describe the rudimentary stress-testing consideration: Range of perspectives and techniques. (2)
Range of perspectives and techniques:
- perspectives: consult economists, actuaries, others
- techniques: qualitative, quantitative
Describe the rudimentary stress-testing consideration: Update stress testing framework regularly. (2)
Update stress testing framework regularly:
- monitor EFFECTIVENESS of framework with qualitative and quantitative measures & UPDATE accordingly
- elements of a framework includes: documents, data quality, assumptions, …
Describe the rudimentary stress-testing consideration: Documentation.
Documentation:
- provide written docs of assumptions, methods & fundamental elements of scenarios
Describe the rudimentary stress-testing consideration: Infrastructure. (3)
Infrastructure:
- the framework should be flexible
- should allow increase in SENSITIVITY TESTING in times of rapid change
- should accommodate TIME HORIZONS for management action
How to improve stress testing.
Rudimentary considerations, including making risks dynamic and reviewing assumptions more than once a year
- focus on PROGRAM, not just scenarios
Considerations in scenario selection. (3)
- scenarios should cover all important BUSINESS & PRODUCT lines
- create NON-HISTORICAL scenarios (events that haven’t happened by COULD happen)
- severe & sustained DOWNTURNS (includes large losses, loss of reputation, legal problems, etc.)
Focus areas in response to financial market turmoil. (5)
- Risk Mitigation
- S&W (Securitization & Warehousing)
- Reputational Risk
- Credit Risk & Counterparty Risk
- Concentration Risk